Gillian Tan is a Bloomberg Gadfly columnist covering deals and private equity. She previously was a reporter for the Wall Street Journal. She is a qualified chartered accountant.

Why so surprised, bank investors? 

Shares of two of the largest U.S. lenders, JPMorgan Chase & Co. and Bank of America Corp., tumbled on Wednesday to their lowest levels in at least four months after executives said second-quarter trading revenue is poised to fall at least 10 percent from the same period a year ago. Rival Wall Street banks with large trading operations -- Goldman Sachs Group Inc., Citigroup Inc. and Morgan Stanley -- also slid.

Ebb and Flow
Bank of America's Brian Moynihan said on Wednesday that second-quarter trading revenue will fall 10 percent to 12 percent from a year earlier
Source: Bloomberg

It's not that investors weren't prepared for a drop, but the guidance from executives was more dire than many had been expecting. Even so, the market reaction seems excessive given the slew of data pointing to a slowdown in this corner of Wall Street. 

As my colleague Lisa Abramowicz wrote earlier this month, weaker trading and issuance volumes should damp expectations of a continued boom in that business. Now, two months into the quarter, that's shaping up to be a certainty. Data from the New York Federal Reserve shows that most of the uplift in bond trading is in less-profitable government-backed debt, rather than corporate or mortgage-backed securities:

Warning Signs
Although daily trading volume has climbed slightly in the quarter to date, the bulk of the increased activity is in government-related debt, which isn't traditionally as lucrative for banks
Source: Bloomberg Intelligence, NY Fed Primary Dealer Bond Data

And even if you're not Sherlock Holmes, a quick glance at the volatility index -- which has sunk to its lowest level since early 2007 and is a key driver of trading -- points to lackluster results. Moreover, it's basically impossible for second-quarter trading revenues to topple those from a year earlier, considering the latter included the U.K.'s unexpected Brexit result, which created a level of uncertainty that's unlikely to be replicated in the near term.

Swing Low
Volatility, a key driver of trading activity, has slumped to its lowest level since 2007
Source: Bloomberg

As I've written, there are reasons to be upbeat about U.S. banks, even if trading revenue retreats and the yield curve continues to flatten. Beyond expected rate hikes, executives including JPMorgan Chief Financial Officer Marianne Lake are becoming increasingly upbeat about the idea of deregulation that doesn't involve Congress needing to rewrite law. On Wednesday, she noted that proposed easing of the Comprehensive Capital Analysis and Review, which stress-tests large banks and determines their capacity for payouts, is a "real possibility, if not a probability." 

What Goes Up ...
JPMorgan's second-quarter trading revenue is poised to fall some 15 percent from the same period a year ago
Source: Bloomberg

Any progress on that front will bolster the ability of the largest banks to return more capital to shareholders in the form of dividends and buybacks, which will in turn boost profitability. That itself should have investors cheering or at least offset jeering ahead of swings in a business that has historically whipsawed. 

This column does not necessarily reflect the opinion of Bloomberg LP and its owners.

To contact the author of this story:
Gillian Tan in New York at gtan129@bloomberg.net

To contact the editor responsible for this story:
Beth Williams at bewilliams@bloomberg.net